Pooling dollars against the flood

The Federal Emergency Management Agency, which manages the flood insurance program, says it needs $5 billion a year in premiums to cover expected losses; but current premiums amount to only $3.5 billion.

The Federal Emergency Management Agency, which manages the flood insurance program, says it needs $5 billion a year in premiums to cover expected losses; but current premiums amount to only $3.5 billion.

Under mandate from Congress, FEMA is trying to bring these premiums in line with losses, which is why so many Cape Codders are facing large increases in their flood insurance rates. (Fortunately for me, I am not one of them.) Some of these increases will be so large as to make it impossible for people to sell their houses. The Wall Street Journal reported on one case in which a woman in Somerset had the flood insurance premium on her condo, valued at about $157,000, increased from $1,700 to $22,000. She cannot sell it.

Our congressman, Bill Keating, is working with other political leaders to postpone these damaging increases while they figure out some better solution to the problem. I applaud these efforts, and I want to suggest a possible long-term solution.

For more than 200 years, the concept of insurance has been based on an economic idea called utility theory. The assertion is that when someone suffers a significant loss, all of society (and our economy) is better off if the rest of us pass the hat and each of us puts in a little — just enough to compensate the one with the loss.

Since passing the hat is an inefficient and costly way to cover losses, we invented insurance. We collect premiums in advance, pooling enough money to cover losses as they occur. When we do not collect enough — as has happened with flood insurance — we usually raise the premiums, or use tax dollars to cover the losses. Currently we use tax dollars to cover FEMA's losses; but the plan is to switch to higher premiums.

There is a third way. We could broaden the number of people paying into the pool.

Flood insurance is not part of regular homeowners' insurance, and only homeowners who are in flood zones are required by their mortgagors to have flood insurance. Since 1968, only the federal government has been willing to provide it; roughly 5.5 million homes are currently in the program.

Under the current system, the shortfall in FEMA premiums — roughly $1.5 billion — must be divided among those 5.5 million homes. But let's suppose we made flood coverage mandatory for all homeowners' policies. And while we're at it, we should include earthquake, tornado and hurricane insurance, so all homeowners could be insured for all risks at reasonable rates.

The Affordable Care Act just did something like this with medical insurance. Insurance companies can no longer refuse to sell insurance to people with pre-existing conditions, or charge them exorbitant rates. This spreads the risk. Sicker people are paid for by all of us.

If every home with a mortgage were required to buy this "all in" insurance, that $1.5 billion FEMA shortfall would be spread among as many as 100 million households. Per household it is not that much. No tax dollars would be required.

I know there are a couple of objections to this idea. People who are not in high-risk areas don't want to pay for those who are. I would suggest an added premium and a coverage limit for high-risk homes.

The other objection is that it encourages building in high-risk areas. There are many ways to avoid this, including forbidding rebuilding after destruction once the owner's loss has been covered.

Spreading the risk over the entire society is better for all of us than forcing some people out of their homes.